CLS Holdings (CLI) - my Tip for 2024...

[scrumpyjack]

Quite so as regards leverage, and indeed I would have thought the effect of leverage would be blindingly obvious to any sensible investor, or indeed anyone with a mortgage. Nuff said

Doubt about property values has to be at the heart of the current malaise in property company shares, and one must be aware of that risk as an investor. As a matter of fact I have recently bought CLI shares with the proceeds of EPIC, but not too big a holding.

I would not read too much into a few small property sales by CLI and then try to project that discount onto the whole portfolio. It may be that they sell the ones that are easiest to realise? Anyway we shall see what happens, but I guess offices will be needed for a long time and property tends to hold its value in the long term against inflation, which we have had a lot of.

It is also reassuring that a substantial percentage of the equity is still owned by the founding family, who will probably be used to taking a long term view.

[Gerry557]

I would be interested to hear why those properties were chosen. It does seem a bit off to sell at such a discount unless there are other factors. We're they empty, costs to refurb not green enough or the wrong type of properties. Retail or office etc.

I might have to redo your figures on some paper to better visualise what you are saying instead of a small screen but I think I can see what you are getting at.

Although I doubt it would make sense to sell in your conditions. Forced sellers excepted. Often if you are closed to covenants. Worth further investigation.

Normally though you tend to keep hold of properties and keep collecting the rent that hopefully rises over time.

[Gerry557]

From my notes, it seems they were looking to reduce LTV from 45% to 40% this was self imposed.

Some properties were picked as they were low yielding and or had floating interest rates. Additionally the floating rates allow you to save on break costs. They expected to be net sellers for 2023.

So now it's how well did the plan go. I suppose we will get a full update in the beginning of March. Obviously there will be the loss of income from the sales offset from rent increases and or additional lettings such as the referbs.

Again the LTV is affected by valuations. Many were cut without the evidence of sales so it depends if this continues or becomes more evidence based. Most of the sales I've seen have been above book or close to book.

I wonder who bought the discounted properties?

Cap ex is also set to fall from £50m to a more normalised £30. So an extra £20 less spending planned going forward. Have rates peaked?

So we're they playing safe and cutting their cloth accordingly, just in case.

[BondSquared]

It's been a brutal week for commerical real estate. Just a few headlines from Bloomberg:

Investors Pull €1 Billion a Month From Europe’s Property Funds
Net flows have been negative for 11 months, Morningstar says
Many open-ended funds face pressure to sell assets: Savills
China's Property Woes Engulf London with Stalled Projects, Sales
China’s Property Crisis Is Starting to Ripple Across the World
Europe’s Banks Under Microscope With Property Worries Swirling
Rising Distress in Germany Signals a Lot More Struggles Ahead
ECB Warns Banks of Consequences for Poor Property Risk Management
Commercial real estate is a key focus for ECB supervisors
Contagion spreading to European banks as values plunge
The European Central Bank is signaling to lenders that they may face higher capital requirements if they have an insufficient handle on risks they face from commercial real estate, according to people familiar with the matter.

And that's not even touching the commercial real estate meltdown in the US, which is spreading to the banking sector, with NY Community Bancorp the next regional bank in the line of fire.
The ECB news is concerning - if bank supervisors start scrutinising the lax enforcement of breaches of loan covenants, and even putting a regulatory capital penalty on it, then one would expect banks to call loans far more quickly than they have so far - it;s still common practice to give commercial real estate borrowers plenty of leeway after a breach.

Which leads me to 2 conclusions:
1) This sector will remain interesting and entertaining in 2024, with plenty of opportunities and risks; and
2) CLI SP needs to touch new lows for me to get involved.

[BobGe]

CLI SP needs to touch new lows for me to get involved.

Just CLI or real estate more generally, commercial or otherwise?

[clissold345]

Here's a bit more info regarding commercial property in the States (article dated 8th Feb 2024). I think Bloomberg articles are all subscriber only. (Of course CLI don't own property in the States.)

https://www.reuters.com/markets/us/yell ... 024-02-08/

[BondSquared]

CLI SP needs to touch new lows for me to get involved.

Just CLI or real estate more generally, commercial or otherwise?

Commercial real estate more generally.

Specific to CLI, which I consider a well-run company, I am somewhat bewildered by the fact that CLI's last property sales in 2023 were at -13.1% vs book valuation, when the declared reasoning behind it was a very modest opportunistic reduction in leverage/debt funding. For opportunistic selling you usually pick the easiest properties to sell, which would suggest that the real pain trades are possibly still ahead. CLI's refinancing requirements are again rather modest on paper (i.e. rolling over maturing loans) and not something that would usually raise concerns, but if the market/bank sentiment turns towards stricter enforcement of breaches of loan covenants then the picture can change quite dramatically, as loans unexpectedly come due years before their scheduled maturity. As mentioned by others, it's crucial to find out why those properties - and, while still a rather small part of the portfolio, it was 4 properties, i.e. not just a single rotten apple - were chosen. There can, of course, be good strategic reasons, but the sale was agreed at 13.1% below half-year valuation, i.e. vs 30Jun23 books, so this last valuation will have been only a few weeks or months old at the time of the sale (compared to the other previous 2023 sale at +1.2% vs valuation, which seem to have occured compared to YE22 valuation; no mentioning of half-year valuation). There's either a good idiosyncratic reason behind it, or a terrible trajectory, or a case of gross over-interpretation (probably all 3).

That all sounds very negative, but in general I do see value in this sector, it's just the usual case of not catching a falling knive before it hits the ground. Seems to me the ground is a bit lower than previously thought.

[mtk62]

I asked a question a couple of years ago about my SIPP portfolio.
Back then I was warned that I held too much property (API, CLI + RGL) ~20% of my SIPP.
I was able to dump the CLS at no great loss. They were £1.60 then (Dec 2022).
The thing that I failed to do when I started out was to diversify and not hold too much of any one holding as a % of the portfolio.

[scrumpyjack]

Just CLI or real estate more generally, commercial or otherwise?

Commercial real estate more generally.

Specific to CLI, which I consider a well-run company, I am somewhat bewildered by the fact that CLI's last property sales in 2023 were at -13.1% vs book valuation, when the declared reasoning behind it was a very modest opportunistic reduction in leverage/debt funding. For opportunistic selling you usually pick the easiest properties to sell, which would suggest that the real pain trades are possibly still ahead. CLI's refinancing requirements are again rather modest on paper (i.e. rolling over maturing loans) and not something that would usually raise concerns, but if the market/bank sentiment turns towards stricter enforcement of breaches of loan covenants then the picture can change quite dramatically, as loans unexpectedly come due years before their scheduled maturity. As mentioned by others, it's crucial to find out why those properties - and, while still a rather small part of the portfolio, it was 4 properties, i.e. not just a single rotten apple - were chosen. There can, of course, be good strategic reasons, but the sale was agreed at 13.1% below half-year valuation, i.e. vs 30Jun23 books, so this last valuation will have been only a few weeks or months old at the time of the sale (compared to the other previous 2023 sale at +1.2% vs valuation, which seem to have occured compared to YE22 valuation; no mentioning of half-year valuation). There's either a good idiosyncratic reason behind it, or a terrible trajectory, or a case of gross over-interpretation (probably all 3).

That all sounds very negative, but in general I do see value in this sector, it's just the usual case of not catching a falling knive before it hits the ground. Seems to me the ground is a bit lower than previously thought.

I think perhaps the problem is that there is not enough liquidity in the commercial property market to give much confidence in valuations. Everyone is very nervous of what such properties would fetch if sold, lenders are doing 'extend and pretend' rather than insist on repayment, force sales and bring the whole house of cards down, creating a much bigger problem of bad loans. Perhaps as WFH reduces, more people return to work in offices and confidence gradually is restored, there will be more clarity on valuations and more confidence in them. Clearly the market is not confident ATM in valuations.

You can register to listen to the results presentation at 8:30 on 6th March when management will tell all
https://www.lsegissuerservices.com/spar ... 63b487780d

[scrumpyjack]

CLS results out today

https://www.londonstockexchange.com/new ... t/16363509

They seem quite reasonable and the dividend is maintained and reasonably covered.
Final 5.35p xd 21/3 pay 2/5

They have cut the valuation of their properties reducing NAV by 23.9% to 233.8p. Obviously the market thinks there is more to come, but who knows?

One interesting item revealed was that they sold a property for £25m but the buyer did not complete and forfeited his deposit. An indication of how shaky the market is?

Anyway I may top up a bit when I have read the details as on the face of it the share price is excessively gloomy and the divi of over 8% looks safe for the time being

[Gerry557]

They sold 5 smaller properties for 10% above value. They didn't or wouldn't go into further detail of the failed transaction.

They are also planning to sell another £270m of properties. So who is up to buy. As long as the values hold up that's great but if everyone sells at the same time, the NAVs will become a self for filling prophecy.

With inflation expected to fall, rates might follow albeit slower and only a bit but should help REITs

[scrumpyjack]

Investors Chronicle is very negative about them.
https://www.investorschronicle.co.uk/ne ... -freefall/

"The discount to NAV might tempt some, but we believe this is a fair reflection of the strong possibility that CLS will need to offload its emptying assets into a depressed market to chip away at its debt. Sell."

Given how frequently the IC is wrong, this might be a buy signal!

[BondSquared]

Annual Report 2023 out https://www.clsholdings.com/~/media/Fil ... 202023.pdf

Behind all the numbers and stories are some pretty shocking statements on the viability (going concern) of the company. Yes, most of it is with respect to the "severe but plausible case" scenario, but that's pretty much the definition of what's playing out across the pond before our eyes in US CRE.

"Material uncertainty related to going concern [...] outside of management’s control and consequently a material uncertainty exists that may cast significant doubt on the Group’s and Company’s ability to continue as a going concern." (pg 55)

"The Auditors had reviewed Management’s paper on the assessment of the Group’s going concern, they also concluded that a material uncertainty existed." (pg 76)

A statement of material uncertainty already existed in the H1/23 semi-annual update but they've certainly not achieved a turnaround in this most existential concern since.

There are no less than 126 references to "going concern" in the annual report, so no point laying them all out here, but any existing or potential investor is encouraged to read up on them.

What's an appropriate NAV discount (a concept which is flawed here anyway, as per previous discussion further above) for a company tethering on the cusp between going concern and gone concern?

A few successful disposals and successful refinancings and the picture could change, of course. Big ifs and not the greatest investment case: loading up on event risk and then hoping and praying. Best of luck to everyone long CLI - the CRE sector will remain undoubtedly interesting this year, it's just a question whether one wants to be involved with the predator (private credit, distressed asset mgrs) or the prey (such as office REITs).

[BondSquared]

I've been tracking CLI over the course of this year, but even now as the SP is about to hit the 70s I just fail to get excited about the risk/reward on offer. It's a company tethering on the cusp of either becoming a basked case (gone concern) or rising from the ashes with a strong recovery (which is absolutely on the cards). Nothing wrong with that, these are often the most rewarding opportunities! However, as we await the outcome of this high-stake going/gone concern game, a shareholder is rewarded with a dividend yield of ~9.8% - really? That's nice on paper but nowhere enough to entice me into a high-risk game of survival or death. For a company with no less than 126 references to the presence of material uncertainty related to "going concern" in their last annual report (see previous post above) I'd want at least 15% (equivalent to ~53p SP). To compare, RECI, a vehicle exclusively holding senior debt to a diversified performing CRE portfolio, trades at almost the same dividend yield as CLI, which is first-loss equity of a distressed office REIT. Doesn't feel right.

[scrumpyjack]

Yes, I guess there is a large slice of 'extend and pretend' in the 'professional' valuations of office property. No-one wants to puncture the balloon! The one big sale apparently is the student accommodation - not an office block! What they really need is for an end to 'shirk from home', which would increase demand for office space, and a significant drop in their high vacancy rate. Still the large family shareholding and the reasonable LTV ratio (if one believes the V bit if that!) gives one hope that they can trade through to the other end of this trough. Not sure how long the divi will continue. If I was lending to them I'd pressure them to chop the divi and get borrowings on a downtrend via retained earnings rather than sales of property.

[BondSquared]

... and in the 60s now, that went quicker than expected. Still think 50s would make an interesting entry level, but happy to let this one slide in case of a turnaround.
A few large planning approvals for conversions to residential would definitely brighten the outlook, but that's proven difficult so far, to say the least.

The title of this thread hasn't aged well.

[BondSquared]

Another tens place reached, as we're now in the 50s. Originally that has been my entry target but I'll give it a miss after all - if we'll see one UK REIT implosion then CLI would be a prime candidate. Good luck all holders. Not all is lost, though most. I never believed that the non-recourse segregation of the properties into SPVs is worth much - if one defaults then no lender will roll any of the other loans, and will diligently call in loans wherever given the chance via covenant breaches. So cross-default by name/reputation/lender behaviour rather than legal language.

@SKYSHIP and his property trader friend have been awfully silent.

[Gerry557]

I think this isn't a full REIT as there are overseas properties which allows a bit more flexibility such as cutting the dividends to fund the pipeline portfolios.

I think this might be TOWNs plan too.

Lots of REITS also struggling but might turn if rates start to drop now after thinking they would stay higher for longer.